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Legg v Sterte Garage & Anor: Court of Appeal decides whether costs order should be made against insurers of a party and considers the effect of the lay-out of a policy term

A pollution claim was brought against a garage company. The company's public liability insurers initially conducted the defence but ceased to do so when they formed the view that the claim was not covered under the policy. Judgment in default was then ordered and the company, which was insolvent, was unable to pay the judgment and the costs order made against it. The claimants therefore sought, and obtained, an order that the insurers pay their costs. The insurers appealed to the Court of Appeal. It has now held as follows:

(1) The judge had correctly exercised his discretion under section 51 of the Senior Courts Act 1981 (which allowed him to make a non-party costs order).

The relevant criteria for making a costs order against insurers were set out by the Court of Appeal in TGA Chapman v Christopher [1998]. They are: (a) the insurers determined that the claim would be fought; (b) the insurers funded the defence; (c) the insurers conducted the litigation; (d) the insurers fought the claim exclusively to defend their own interests; and (e) the defence failed in its entirety.

The key issue here was whether the insurers had acted exclusively or predominantly in their own interests in defending the claim. The Court of Appeal concluded that they had. They had sought to avoid a claim falling within the cover provided by the policy. If they had not funded the defence, the insured would not have done so: "The only reasonable inference from the precarious financial position of [the insured] and from its failure to defend the claims once the insurers withdrew their support is that, but for the insurers' support, [the insured] would not have defended the claims and the claimants would have avoided the bulk of the costs they were forced to incur". It made no difference to this conclusion that the insurers had substantially successfully defended the part of the claim which might have fallen to be covered under the policy.

(2) Although not required to do so, the Court of Appeal also considered whether the insured had been entitled to an indemnity against the claimants' costs under the policy (and thus this entitlement would have been transferred to the claimants under the Third Party (Rights against Insurers) Act 1930).

The Court of Appeal acknowledged that (in the absence of express wording) the general position is that the insured's own costs in defending an unsuccessful claim are not covered under a liability policy. (The Court of Appeal's comments were made in reference to an extract from MacGillivray on Insurance Law, which in turn was discussing a sample clause which would not provide cover for unsuccessful claims. However, its suggestion that an insured should seek to agree wording in the policy to cover unsuccessful claims suggests that the Court of Appeal did not believe that there would be cover in the absence of such wording).

However, the policy can provide broader cover (where the claim is unsuccessful or does not fall within the scope of the policy). The policy in question had a definition of "Costs and Expenses", which provided as follows:

"1 any claimant's legal costs for which the Policyholder is legally liable

2 all costs and expenses incurred with the [insurer's] written consent

3 all solicitors' fees for legal representation at

… (b) any proceedings in any court…

in connection with any event which is or may be the subject of indemnity".

The lay-out above suggested that the last sentence (which covers costs incurred even if there has been no insured loss) qualifies only paragraph 3 and not paragraphs 1 and 2 as well.

However, the Court of Appeal held that the lay-out was "only a factor to be taken into account and its effect may well be displaced by the context or sense of the clause in question". To find that the last sentence did not qualify paragraph 2 would lead to the "extraordinary result" that insurers would not be liable to pay costs incurred with their consent if the claim against the insured failed. Even if the insured received a costs order in its favour, this would be unlikely to cover all its costs and, in any event, the claimant may be unable to pay. The Court of Appeal held that that consideration was "more than sufficient to displace any weight that may be placed on the lay-out". Accordingly, the last sentence also qualified paragraph 1, and so the insured was entitled to be indemnified by the insurers against the costs order in favour of the claimants.

Accordingly, the appeal was dismissed.

COMMENT: The decision regarding section 51 is in line with earlier caselaw. It confirms that an insurer is likely to be liable for costs where an insured is insolvent or is unlikely to be interested in defending the claim against it. Insureds will usually have an interest in defending professional negligence claims (for reputational reasons), though, so this condition is unlikely to be met in such cases (unless the insured is insolvent).

The Court of Appeal's view that, in the absence of express policy wording, the general position is that the insured's own costs in meeting an unsuccessful claim are not covered under a liability policy because such claims do not fall within the cover provided by the policy is of interest. (The Court of Appeal's comments were made in reference to an extract from MacGillivray on Insurance Law, which in turn was discussing a sample clause which would not provide cover for unsuccessful claims. However, its suggestion that an insured should seek to agree wording in the policy to cover unsuccessful claims suggests that the Court of Appeal did not believe that there would be cover in the absence of such wording).

However, there is prior authority for the proposition that defence costs are payable where there is a “mere possibility” that the claim advanced against the insured is covered by the policy. In other words, the fall-back position is to look at the nature of the claims rather than whether or not they eventually succeed. In practical terms, that is possibly a better approach, since there is no need to await the (uncertain) outcome of the case in order to determine whether the defence costs are covered under the policy.